E&Y tries to defend itself

By Felix Salmon
March 25, 2010
Contrarian Pundit has a letter being sent out by Ernst & Young "to address certain media coverage and commentary on the Examiner's Report that has at times been inaccurate, if not misleading".

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Contrarian Pundit has a letter being sent out by Ernst & Young “to address certain media coverage and commentary on the Examiner’s Report that has at times been inaccurate, if not misleading”.

It’s pretty obvious why the letter isn’t being sent to the media outlets in question: it’s hilariously disingenuous, and anybody reading it side-by-side with, say, this piece at ZeroHedge will find it simply laughable. For instance:

Because effective control of the securities was surrendered to the counterparty in the Repo 105 arrangements, the accounting literature (SFAS 140) required Lehman to account for Repo 105 transactions as sales rather than financings.

For one thing, it’s jolly good that E&Y is so clear about this now, after the head of its Lehman team, Hillary Hansen, told the examiner that she had no idea what Repo 105 even was as late as June 2008. And more to the point, the examiner never says that the accounting treatment of the Repo 105 transactions was wrong; he says that the disclosure surrounding those arrangements was clearly inadequate. To which E&Y responds that “the 2007 audited financial statements were presented in accordance with US GAAP, and clearly presented Lehman as a leveraged entity operating in a risky and volatile industry”.

Well, yes. Which makes it all the more important that off-balance-sheet sources of leverage and risk should be clearly disclosed, no?

The letter continues in this vein for two pages, denying allegations which haven’t been made while stepping gently around the ones which have. Even if you haven’t seen things like the ZH report, the tone of the letter is decidedly weird. If you have seen things like the ZH report, the letter will only serve to make your opinion of E&Y even worse. If I was on the audit committee which received this letter, I would certainly be shopping my account right now. And if this is the best defense that E&Y can muster, they really are in for a world of Lehman-related pain.


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Give them their due, it’s the old insanity plea of chartered accountants under the influence of untrammeled greed – insane to think they could get away with it.

Posted by HBC | Report as abusive

Here’s the key question: whom was Lee blowing the whistle on?

If your answer is “Lehman,” you’re only partly right. He was also blowing it on E&Y.

And what did E&Y do with his most damning allegation (Repo 105)? E&Y *suppressed* it.

Posted by ContrarianP | Report as abusive


That letter from Ernst & Young to Audit Committee member was posted first on my site re: The Auditors on March 20th. http://retheauditors.com/2010/03/20/an-e rnst-young-response-dear-audit-committee -member/

It was linked to by FT Alphaville, Reuters’ Emily Chasan, the Times UK and Zero Hedge amongst others earlier this week.
http://retheauditors.com/2010/03/21/erns t-young-and-lehman-brothers-a-summary-of -quotes-stories-and-links/

Posted by FrancineMcKenna | Report as abusive

Hi Francine,

I posted an actual copy of the letter, rather than quoting from its contents.

Also, for all we know, we’re not technically talking about the same letter (though the content overlaps — this is clearly part of an E&Y PR campaign), because my letter went to an audit-committee member of what is most probably a different company. I know this person and he gave me a copy.

Posted by ContrarianP | Report as abusive

Although the Examiner’s Report expressly declined to take a position on the issue, it seems quite unlikely that Lehman’s repo 105 program in fact met the standards required by FAS 140 for off-balance sheet treatment. In particular, LBIE (Lehman’s UK entity) apparently repo’d two different “buckets” of securities in the UK: (i) securities that were already owned LBIE, and (ii) securities transferred to LBIE from U.S. Lehman entities. With respect to the second category, the means of transfer was a repo between the U.S. Lehman entity and LBIE. That repo between the U.S. Lehman entity and LBIE, however, would not be characterized as a true sale for U.S. bankruptcy law purposes; indeed, the very impetus for the repo 105 structure was Lehman’s inability to obtain a true sale opinion from a U.S. law firm for repos transacted by U.S. Lehman entities. And there lies the problem: the transfer of securities from U.S. Lehman entities to LBIE, and the characterization of such transfer for U.S. bankruptcy law purposes, were not addressed in the Linklaters UK legal opinion upon which Lehman depended for FAS 140 purposes (and one might conjecture that Lehman probably never informed Linklaters of the specific providence of the securities). Instead, the Linklaters UK legal opinion simply included an express assumption that there were no provisions of foreign law that would have any effect on the opinion. Accordingly, it is hard to imagine that Linklaters would still have been able to provide its UK legal opinion if there had been an explicit statement of the fact that certain of the securities that were repo’d in the UK by LBIE were first acquired by LBIE from U.S. Lehman entities in repo transactions that did not constitute true sales for U.S. bankruptcy law purposes.

Posted by Calley121 | Report as abusive